MASSMUTUAL ADVANTAGE FUNDS MASSMUTUAL PREMIER FUNDS STATEMENT OF ADDITIONAL INFORMATION July 20, 2021 This Statement of Additional Information (the “SAI”) relates to the reorganization of each series of Barings Funds Trust listed below (each, a “Selling Fund”, and together, the “Selling Funds”) with and into the corresponding series identified below under the heading “Acquiring Funds” (each, an “Acquiring Fund”), which is listed opposite the Selling Fund in the table below (each, a “Reorganization,” and together, the “Reorganizations”). Selling Funds Acquiring Funds Acquiring Funds, each a series of MassMutual Advantage Funds Barings Global Floating Rate Fund MassMutual Global Floating Rate Fund Barings Global Credit Income Opportunities Fund MassMutual Global Credit Income Opportunities Fund Barings Emerging Markets Debt Blended Total Return Fund MassMutual Emerging Markets Debt Blended Total Return Fund Barings Global Emerging Markets Equity Fund MassMutual Global Emerging Markets Equity Fund Acquiring Funds, each a series of MassMutual Premier Funds Barings Active Short Duration Bond Fund MassMutual Short-Duration Bond Fund Barings U.S. High Yield Fund MassMutual High Yield Fund This SAI contains information which may be of interest to shareholders of the Selling Funds but which is not included in the combined proxy statement/prospectus dated July 20, 2021 (the “Proxy Statement/Prospectus”) relating to the Reorganizations. As described in the Proxy Statement/Prospectus, there are two general categories of Reorganizations. Each of the Reorganizations in the first category (each, an “Advantage Reorganization”) involves the transfer of all of the assets of the applicable Selling Fund in exchange for a number of shares of equivalent value of the applicable newly created Acquiring Fund which is a series of MassMutual Advantage Funds, as shown in the table above. Each of the Reorganizations in the second category (each, a “Premier Reorganization”) involves the transfer of all of the assets of the applicable Selling Fund in exchange for a number of shares of equivalent value of the applicable Acquiring Fund which is a series of MassMutual Premier Funds, as shown in the table above. Each Selling Fund would distribute the Acquiring Fund shares it receives to its shareholders in complete liquidation of each Selling Fund. This SAI is not a prospectus and should be read in conjunction with the Proxy Statement/Prospectus. The Proxy Statement/Prospectus has been filed with the Securities and Exchange Commission (the “SEC”) and is available upon request and without charge by writing to the Acquiring Funds at c/o Massachusetts Mutual Life Insurance Company, 1295 State Street, Springfield, Massachusetts 01111-0001, Attention: MassMutual U.S. Product and Investment Communications, or by calling 1-888-309-3539.
This document is posted to help you gain knowledge. Please leave a comment to let me know what you think about it! Share it to your friends and learn new things together.
Transcript
July 20, 2021
This Statement of Additional Information (the “SAI”) relates to the
reorganization of each series of Barings Funds Trust listed below
(each, a
“Selling Fund”, and together, the “Selling Funds”) with and into
the corresponding series identified below under the heading
“Acquiring Funds” (each,
an “Acquiring Fund”), which is listed opposite the Selling Fund in
the table below (each, a “Reorganization,” and together, the
“Reorganizations”).
Selling Funds Acquiring Funds Acquiring Funds, each a series of
MassMutual Advantage Funds Barings Global Floating Rate Fund
MassMutual Global Floating Rate Fund
Barings Global Credit Income Opportunities Fund MassMutual Global
Credit Income Opportunities Fund
Barings Emerging Markets Debt Blended Total Return Fund MassMutual
Emerging Markets Debt Blended Total Return Fund
Barings Global Emerging Markets Equity Fund MassMutual Global
Emerging Markets Equity Fund
Acquiring Funds, each a series of MassMutual Premier Funds Barings
Active Short Duration Bond Fund MassMutual Short-Duration Bond
Fund
Barings U.S. High Yield Fund MassMutual High Yield Fund
This SAI contains information which may be of interest to
shareholders of the Selling Funds but which is not included in the
combined proxy
statement/prospectus dated July 20, 2021 (the “Proxy
Statement/Prospectus”) relating to the Reorganizations. As
described in the Proxy
Statement/Prospectus, there are two general categories of
Reorganizations. Each of the Reorganizations in the first category
(each, an “Advantage
Reorganization”) involves the transfer of all of the assets of the
applicable Selling Fund in exchange for a number of shares of
equivalent value of the
applicable newly created Acquiring Fund which is a series of
MassMutual Advantage Funds, as shown in the table above. Each of
the Reorganizations
in the second category (each, a “Premier Reorganization”) involves
the transfer of all of the assets of the applicable Selling Fund in
exchange for a
number of shares of equivalent value of the applicable Acquiring
Fund which is a series of MassMutual Premier Funds, as shown in the
table above.
Each Selling Fund would distribute the Acquiring Fund shares it
receives to its shareholders in complete liquidation of each
Selling Fund.
This SAI is not a prospectus and should be read in conjunction with
the Proxy Statement/Prospectus. The Proxy Statement/Prospectus
has
been filed with the Securities and Exchange Commission (the “SEC”)
and is available upon request and without charge by writing to the
Acquiring
Funds at c/o Massachusetts Mutual Life Insurance Company, 1295
State Street, Springfield, Massachusetts 01111-0001, Attention:
MassMutual U.S.
Product and Investment Communications, or by calling
1-888-309-3539.
TABLE OF CONTENTS
SUPPLEMENTAL FINANCIAL INFORMATION 1
i
ADDITIONAL INFORMATION ABOUT THE ACQUIRING FUNDS
Attached hereto as Appendix A is the Preliminary Statement of
Additional Information of MassMutual Global Floating Rate
Fund,
MassMutual Global Credit Income Opportunities Fund, MassMutual
Emerging Markets Debt Blended Total Return Fund, and MassMutual
Global
Emerging Markets Equity Fund (the “MassMutual Advantage Funds
SAI”).
Attached hereto as Appendix B is the Statement of Additional
Information of MassMutual Short-Duration Bond Fund and MassMutual
High
Yield Fund dated February 1, 2021 (the “MassMutual Premier Funds
SAI”).
SUPPLEMENTAL FINANCIAL INFORMATION
Rule 6-11(d)(2) under Regulation S-X requires that, with respect to
any fund acquisition, registered investment companies must
provide
certain supplemental financial information in lieu of pro forma
financial statements required by Regulation S-X. For this reason,
pro forma financial
statements of the Acquiring Fund are not included in this
SAI.
Tables showing the fees of the Selling Funds and the Acquiring
Funds, and the fees and expenses of the Acquiring Funds on a pro
forma basis
after giving effect to the proposed Reorganizations, are included
in the “Comparison of Fees and Expenses” section of each proposal
in the Proxy
Statement/Prospectus.
The Reorganization will not result in a material change to the
Selling Funds’ investment portfolios due to the investment
restrictions of the
corresponding Acquiring Funds. As a result, a schedule of
investments of each of the Selling Funds modified to show the
effects of the change is not
required and is not included. Notwithstanding the foregoing,
changes may be made to the Selling Funds’ portfolios in advance of
the Reorganizations
and/or the Acquiring Funds’ portfolios following the
Reorganizations.
There are no material differences in accounting policies of the
Selling Funds as compared to those of the Acquiring Funds.
FINANCIAL STATEMENTS
Deloitte & Touche LLP (“Deloitte”), 30 Rockefeller Plaza, New
York, New York 10112, is the independent registered public
accounting firm
for each Selling Fund. Deloitte conducts annual audits of the
Selling Trust’s financial statements, assists in the preparation of
each Fund’s federal and
state income tax returns, consults with the Selling Trust as to
matters of accounting and federal and state income taxation,
provides assistance in
connection with the preparation of various SEC filings, and
consults with the Selling Trust as to certain non-U.S. tax
matters.
Deloitte & Touche LLP (“Deloitte”), 200 Berkeley Street,
Boston, Massachusetts, is the independent registered public
accounting firm for
each Acquiring Fund. Deloitte conducts annual audits of the
Acquiring Trust’s financial statements, consults with the Acquiring
Trust as to accounting
matters, provides assistance in connection with the preparation of
various SEC filings, and consults with the Acquiring Trust as to
certain non-U.S. tax
matters.
Because MassMutual Global Floating Rate Fund, MassMutual Global
Credit Income Opportunities Fund, MassMutual Emerging Markets
Debt Blended Total Return Fund and MassMutual Global Emerging
Markets Equity Fund were newly created for purposes of this
transaction, none
has published an annual or semi-annual report to shareholders. Each
of Barings Global Floating Rate Fund, Barings Global Credit
Income
Opportunities Fund, Barings Emerging Markets Debt Blended Total
Return Fund and Barings Global Emerging Markets Equity Fund shall
be the
accounting and performance survivor in its respective
Reorganization, and each corresponding Acquiring Fund, as the
corporate survivor in its
respective Reorganization, shall adopt the accounting and
performance history of the corresponding Selling Fund. However,
MassMutual High Yield
Fund and MassMutual Short-Duration Bond Fund will be the accounting
and performance survivors of their respective Reorganziations, and
neither
will adopt the accounting and performance history of its
corresponding Selling Fund.
The following documents, each of which has been filed with the SEC
and will be sent to any shareholder requesting this SAI, are
incorporated by reference into this SAI.
Barings Funds Trust (SEC file nos. 811-22845 and 333-188840)
the Report of the Independent Registered Public Accounting Firm and
the audited financial statements included in the Annual Report
to
Shareholders of each Selling Fund for the year ended June 30,
2020.
the unaudited financial statements included in the unaudited
Semi-Annual Report to Shareholders of each Selling Fund for the six
months
ended December 31, 2020.
1
the Report of the Independent Registered Public Accounting Firm and
the audited financial statements included in the Annual Report
to
Shareholders of MassMutual Short-Duration Bond Fund and MassMutual
High Yield Fund for the year ended September 30, 2020.
the unaudited financial statements included in the unaudited
Semi-Annual Report to Shareholders of MassMutual Short-Duration
Bond Fund
and MassMutual High Yield Fund for the six months ended March 31,
2021.
2
MASSMUTUAL ADVANTAGE FUNDS
STATEMENT OF ADDITIONAL INFORMATION
THIS STATEMENT OF ADDITIONAL INFORMATION (“SAI”) IS NOT A
PROSPECTUS. IT SHOULD BE READ IN CONJUNCTION
WITH THE PROSPECTUS OF MASSMUTUAL ADVANTAGE FUNDS (THE “TRUST”)
DATED [JULY 20, 2021], AS AMENDED FROM TIME
TO TIME (THE “PROSPECTUS”). THIS SAI INCORPORATES HEREIN THE
FINANCIAL STATEMENTS OF BARINGS GLOBAL FLOATING
RATE FUND, BARINGS GLOBAL CREDIT INCOME OPPORTUNITIES FUND, BARINGS
EMERGING MARKETS DEBT BLENDED TOTAL
RETURN FUND, AND BARINGS GLOBAL EMERGING MARKETS EQUITY FUND (EACH
A “PREDECESSOR FUND” AND TOGETHER
THE “PREDECESSOR FUNDS”) BY REFERENCE TO THE BARINGS FUNDS TRUST’S
ANNUAL REPORT AS OF JUNE 30, 2020 (THE
“ANNUAL REPORT”). TO OBTAIN A PROSPECTUS OR AN ANNUAL REPORT, CALL
TOLL-FREE 1-888-309-3539, OR WRITE THE
TRUST AT THE ABOVE ADDRESS.
This SAI relates to the following Funds:
Fund Name Class I Class Y Class L Class C
MassMutual Global Floating Rate Fund [ ] [ ] [ ] [ ]
MassMutual Global Credit Income Opportunities Fund [ ] [ ] [ ] [
]
MassMutual Emerging Markets Debt Blended Total Return Fund [ ] [ ]
[ ] [ ]
MassMutual Global Emerging Markets Equity Fund [ ] [ ] [ ] [
]
No dealer, salesman or any other person has been authorized to give
any information or to make any representations, other than those
contained
in this SAI or in the related Prospectus, in connection with the
offer contained herein, and, if given or made, such other
information or representation
must not be relied upon as having been authorized by the Trust or
MML Distributors, LLC (the “Distributor”). This SAI and the related
Prospectus do
not constitute an offer by the Trust or by the Distributor to sell
or a solicitation of any offer to buy any of the securities offered
hereby in any
jurisdiction to any person to whom it is unlawful to make such
offer in such jurisdiction.
The information in this SAI is not complete and may be changed. We
may not sell these securities until the registration statement
filed with the Securities and Exchange Commission is effective.
This SAI is not an offer to sell these securities and it is not
soliciting an offer to buy these securities in any state where the
offer or sale is not permitted.
Dated [ ], 2021
Investment Restrictions of the Funds A-49
Management of the Trust A-50
Control Persons and Principal Holders of Securities A-61
Investment Advisory and Other Service Agreements A-61
The Distributor A-64
Custodian, Dividend Disbursing Agent, and Transfer Agent A-65
Independent Registered Public Accounting Firm A-66
Codes of Ethics A-66
Description of Shares A-67
Securities Lending A-72
Taxation A-74
Experts A-86
Appendix B—Proxy Voting Policies A-91
Appendix C—Additional Portfolio Manager Information A-101
A-2
MassMutual Advantage Funds (the “Trust”) is a professionally
managed, open-end investment company. This Statement of
Additional
Information (“SAI”) describes the following three diversified
series of the Trust: (1) MassMutual Global Floating Rate Fund
(“Global Floating Rate
Fund”), (2) MassMutual Global Credit Income Opportunities Fund
(“Global Credit Income Opportunities Fund”), and (3) MassMutual
Emerging
Markets Debt Blended Total Return Fund (“Emerging Markets Debt
Blended Total Return Fund”); and one non-diversified series of the
Trust:
MassMutual Global Emerging Markets Equity Fund (“Global Emerging
Markets Equity Fund”) (each individually referred to as a “Fund”
or
collectively as the “Funds”). Currently, the Trustees have
authorized a total of four separate series. Additional series may
be created by the Trustees
from time-to-time.
The Trust is organized under the laws of The Commonwealth of
Massachusetts as a Massachusetts business trust pursuant to an
Agreement and
Declaration of Trust dated April 26, 2021, as it may be amended
from time to time (the “Declaration of Trust”). The investment
adviser for each of the
Funds is MML Investment Advisers, LLC (“MML Advisers”). The
subadviser for the Funds is Barings LLC (“Barings”). Barings is an
indirect
subsidiary of Massachusetts Mutual Life Insurance Company
(“MassMutual”). In addition, Baring International Investment
Limited (“BIIL”) serves
as a sub-subadviser for the Funds. References in this SAI to a
Fund’s subadviser may include any sub-subadvisers as
applicable.
ADDITIONAL INVESTMENT POLICIES
Each Fund has a distinct investment objective which it pursues
through separate investment policies, as described in the
Prospectus and below.
The fundamental investment policies and fundamental investment
restrictions of a Fund may not be changed without the vote of a
majority of that
Fund’s outstanding voting securities (which, under the Investment
Company Act of 1940, as amended (the “1940 Act”) and the rules
thereunder and as
used in this SAI and in the Prospectus, means the lesser of (l) 67%
of the shares of that Fund present at a meeting if the holders of
more than 50% of
the outstanding shares of that Fund are present in person or by
proxy, or (2) more than 50% of the outstanding shares of that
Fund). The Board of
Trustees of the Trust (the “Board”) may adopt new or amend or
delete existing non-fundamental investment policies and
restrictions without
shareholder approval. There is no guarantee that any Fund will
achieve its investment objective.
Unless otherwise specified, each Fund may engage in the investment
practices and techniques described below to the extent consistent
with such
Fund’s investment objective and fundamental investment
restrictions. Not all Funds necessarily will utilize all or any of
these practices and techniques
at any one time or at all. Investment policies and restrictions
described below are non-fundamental and may be changed by the
Trustees without
shareholder approval, unless otherwise noted. For a description of
the ratings of corporate debt securities and money market
instruments in which the
various Funds may invest, reference should be made to Appendix
A.
Asset-Based Securities
A Fund may invest in debt, preferred, or convertible securities,
the principal amount, redemption terms, or conversion terms of
which are related
to the market price of some natural resource asset such as gold
bullion. These securities are referred to as “asset-based
securities.” If an asset-based
security is backed by a bank letter of credit or other similar
facility, the investment adviser or subadviser may take such
backing into account in
determining the creditworthiness of the issuer. While the market
prices for an asset-based security and the related natural resource
asset generally are
expected to move in the same direction, there may not be perfect
correlation in the two price movements. Asset-based securities may
not be secured by
a security interest in or claim on the underlying natural resource
asset. The asset-based securities in which a Fund may invest may
bear interest or pay
preferred dividends at below market (or even relatively nominal)
rates. Certain asset-based securities may be payable at maturity in
cash at the stated
principal amount or, at the option of the holder, directly in a
stated amount of the asset to which it is related. In such
instance, because no Fund
presently intends to invest directly in natural resource assets, a
Fund would sell the asset-based security in the secondary market,
to the extent one
exists, prior to maturity if the value of the stated amount of the
asset exceeds the stated principal amount and thereby realize the
appreciation in the
underlying asset. Certain restrictions imposed on the Funds by the
Internal Revenue Code of 1986, as amended (the “Code”), may limit
the Funds’
ability to invest in certain natural resource-based
securities.
A-3
Precious Metal-Related Securities. A Fund may invest in the equity
securities of companies that explore for, extract, process, or deal
in precious
metals (e.g., gold, silver, and platinum), and in asset-based
securities indexed to the value of such metals. Such securities may
be purchased when they
are believed to be attractively priced in relation to the value of
a company’s precious metal-related assets or when the values of
precious metals are
expected to benefit from inflationary pressure or other economic,
political, or financial uncertainty or instability. Based on
historical experience,
during periods of economic or financial instability the securities
of companies involved in precious metals may be subject to extreme
price
fluctuations, reflecting the high volatility of precious metal
prices during such periods. In addition, the instability of
precious metal prices may result
in volatile earnings of precious metal-related companies, which
may, in turn, adversely affect the financial condition of such
companies.
The major producers of gold include the Republic of South Africa,
Russia, Canada, the United States, Brazil, and Australia. Sales of
gold by
Russia are largely unpredictable and often relate to political and
economic considerations rather than to market forces. Economic,
financial, social, and
political factors within South Africa may significantly affect
South African gold production.
Bank Capital Securities
A Fund may invest in bank capital securities. Bank capital
securities are issued by banks to help fulfill their regulatory
capital requirements.
Many bank capital securities are commonly thought of as hybrids of
debt and preferred stock. Some bank capital securities are
perpetual (with no
maturity date), callable, and have a cumulative interest deferral
feature. This means that under certain conditions, the issuer bank
can withhold
payment of interest until a later date, likely increasing the
credit and interest rate risks of an investment in those
securities. Investments in bank capital
securities are subject to the risks of other debt investments, such
as default and non-payment, as well as certain other risks, such as
the risk that bank
regulators may force the bank to dissolve, merge, restructure its
capitalization, or take other actions intended to prevent its
failure or ensure its orderly
resolution. Bank regulators in certain jurisdictions have broad
authorities they may use to prevent the failure of banking
institutions or to stabilize the
banking industry, all of which may adversely affect the values of
investments in bank capital securities and other bank obligations,
including those of
other banks.
Bank Loans
A Fund may invest in bank loans including, for example, corporate
loans, loan participations, direct debt, bank debt, and bridge
debt. A Fund
may invest in a loan by lending money to a borrower directly as
part of a syndicate of lenders. In a syndicated loan, the agent
that originated and
structured the loan typically administers and enforces the loan on
behalf of the syndicate. In such cases, the agent is normally
responsible for the
collection of principal and interest payments from the borrower and
the apportionment of these payments to the credit of all
institutions that are parties
to the loan agreement. A Fund will generally rely on the agent to
receive and forward to the Fund its portion of the principal and
interest payments on
the loan. Failure by the agent to fulfill its obligations may delay
or adversely affect receipt of payment by a Fund.
A Fund may invest in loans through novations, assignments, and
participation interests. In a novation, a Fund typically assumes
all of the rights
of a lending institution in a loan, including the right to receive
payments of principal and interest and other amounts directly from
the borrower and to
enforce its rights as a lender directly against the borrower. When
a Fund takes an assignment of a loan, the Fund acquires some or all
of the interest of
another lender (or assignee) in the loan. In such cases, the Fund
may be required generally to rely upon the assignor to demand
payment and enforce
rights under the loan. (There may be one or more assignors prior in
time to the Fund.) If a Fund acquires a participation in the loan
made by a third
party loan investor, the Fund typically will have a contractual
relationship only with the loan investor, not with the borrower. As
a result, a Fund may
have the right to receive payments of principal, interest, and any
fees to which it is entitled only from the loan investor selling
the participation and
only upon receipt by such loan investor of such payments from the
borrower. In connection with participations, a Fund generally will
have no right to
enforce compliance by the borrower with the terms of the loan
agreement, nor any rights with respect to any funds acquired by
other loan investors
through set-off against the borrower, and the Fund may not directly
benefit from the collateral supporting the loan in which it has
purchased the
participation. As a result, a Fund assumes the credit risk of both
the borrower and the loan investor selling the participation. In
the event of the
insolvency of the loan investor selling a participation, a Fund may
be treated as a general creditor of such loan investor. In
addition, because loan
participations are not generally rated by independent credit rating
agencies, a decision by a Fund to invest in a particular loan
participation will depend
almost exclusively on its investment adviser’s or subadviser’s
credit analysis of the borrower.
A-4
Loans in which a Fund may invest are subject generally to the same
risks as debt securities in which the Fund may invest. In addition,
loans in
which a Fund may invest, including bridge loans, are generally made
to finance internal growth, mergers, acquisitions, stock
repurchases, leveraged
buy-outs, and other corporate activities, including bridge loans. A
significant portion of the loans purchased by a Fund may represent
interests in loans
made to finance highly leveraged corporate acquisitions, known as
“leveraged buy-out” transactions, leveraged recapitalization loans,
and other types
of acquisition financing. The highly leveraged capital structure of
the borrowers in such transactions may make such loans especially
vulnerable to
adverse changes in economic or market conditions.
Loans generally are subject to restrictions on transfer, and only
limited opportunities may exist to sell loans in secondary markets.
In some cases,
negotiations involved in disposing of indebtedness may require
weeks to complete. As a result, a Fund may be unable to sell loans
at a time when it
may otherwise be desirable to do so or may be able to sell them
only at a price that is less than their fair market value. The
settlement time for certain
loans is longer than the settlement time for many other types of
investments, and a Fund may not receive the payment for a loan sold
by it until well
after the sale; that cash would be unavailable for payment of
redemption proceeds or for reinvestment.
Certain of the loans acquired by a Fund may involve revolving
credit facilities under which a borrower may from time to time
borrow and repay
amounts up to the maximum amount of the facility. In such cases,
the Fund would have an obligation to advance its portion of such
additional
borrowings upon the terms specified in the loan participation. A
Fund may be required to fund such advances at times and in
circumstances where the
Fund might not otherwise choose to make a loan to the
borrower.
The value of collateral, if any, securing a loan can decline, or
may be insufficient to meet the borrower’s obligations or difficult
to liquidate, or a
Fund may be prevented or delayed from realizing the collateral. In
addition, a Fund’s access to collateral may be limited by
bankruptcy or other
insolvency laws. If a secured loan is foreclosed, a Fund could
become part owner of any collateral, and would bear the costs and
liabilities associated
with owning and disposing of the collateral. A bankruptcy or
restructuring can result in the loan being converted to an equity
ownership interest in the
borrower. In addition, under legal theories of lender liability, a
Fund potentially might be held liable as a co-lender.
Loans may not be considered “securities,” and a Fund that purchases
a loan may not be entitled to rely on anti-fraud and other
protections under
the federal securities laws.
Below Investment Grade Debt Securities
A Fund may purchase below investment grade debt securities,
sometimes referred to as “junk” or “high yield” bonds. The lower
ratings of certain
securities held by a Fund reflect a greater possibility that
adverse changes in the financial condition of the issuer, or in
general economic conditions, or
both, or an unanticipated rise in interest rates, may impair the
ability of the issuer to make payments of interest and principal.
The inability (or
perceived inability) of issuers to make timely payment of interest
and principal would likely make the values of securities held by
the Fund more
volatile and could limit the Fund’s ability to sell its securities
at prices approximating the values a Fund had placed on such
securities. In the absence
of a liquid trading market for securities held by it, the Fund may
be unable at times to establish the fair market value of such
securities. The rating
assigned to a security by S&P Global Ratings (“S&P”) or
Moody’s Investors Service, Inc. (“Moody’s”) does not reflect an
assessment of the volatility
of the security’s market value or of the liquidity of an investment
in the security. (The term “below investment grade debt securities”
includes
securities that are not rated but are considered by a Fund’s
investment adviser or subadviser to be of comparable quality to
other below investment
grade debt securities.)
A-5
Like those of other fixed income securities, the values of below
investment grade debt securities fluctuate in response to changes
in interest rates.
Thus, a decrease in interest rates generally will result in an
increase in the value of a Fund’s fixed income securities.
Conversely, during periods of
rising interest rates, the value of a Fund’s fixed income
securities generally will decline. In addition, the values of such
securities are also affected by
changes in general economic conditions and business conditions,
which are more likely to lead to a weakened capacity to make
principal and interest
payments than in the case of higher grade securities. Changes by
recognized rating services in their ratings of any fixed income
security and in the
ability of an issuer to make payments of interest and principal may
also affect the value of these investments. Changes in the values
of portfolio
securities generally will not affect cash income derived from such
securities, but will affect the Fund’s net asset value
(“NAV”).
Issuers of below investment grade debt securities are often highly
leveraged, so their ability to service their debt obligations
during an economic
downturn or during sustained periods of rising interest rates may
be impaired. In the past, economic downturns or increases in
interest rates have,
under certain circumstances, resulted in a higher incidence of
default by the issuers of these instruments and are likely to do so
in the future, especially
in the case of highly leveraged issuers. In addition, such issuers
may not have more traditional methods of financing available to
them, and may be
unable to repay debt at maturity by refinancing. The risk of loss
due to default in payment of interest or principal by such issuers
is significantly
greater because such securities frequently are unsecured and
subordinated to the prior payment of senior indebtedness. Certain
of the below investment
grade debt securities in which a Fund may invest are issued to
raise funds in connection with the acquisition of a company, in
so-called “leveraged
buy-out” transactions. The highly leveraged capital structure of
such issuers may make them especially vulnerable to adverse changes
in economic
conditions.
Under adverse market or economic conditions or in the event of
adverse changes in the financial condition of the issuer, a Fund
could find it more
difficult to sell below investment grade debt securities when the
Fund’s investment adviser or subadviser believes it advisable to do
so or may be able
to sell such securities only at prices lower than might otherwise
be available. Consolidation in the financial services industry has
resulted in there
being fewer market makers for high yield bonds, which may result in
further risk of illiquidity and volatility with respect to high
yield bonds held by a
Fund, and this trend may continue in the future. Furthermore, high
yield bonds held by a Fund may not be registered under the
Securities Act of 1933,
as amended (the “1933 Act”), and, unless so registered, a Fund will
not be able to sell such high yield bonds except pursuant to an
exemption from
registration under the 1933 Act. This may further limit the Fund’s
ability to sell high yield debt securities or to obtain the desired
price for such
securities. In many cases, below investment grade debt securities
may be purchased in private placements and, accordingly, will be
subject to
restrictions on resale as a matter of contract or under securities
laws. Under such circumstances, it may also be more difficult to
determine the fair
values of such securities for purposes of computing a Fund’s NAV.
In order to enforce its rights in the event of a default by an
issuer of below
investment grade debt securities, a Fund may be required to take
possession of and manage assets securing the issuer’s obligations
on such securities,
which may increase the Fund’s operating expenses and adversely
affect the Fund’s NAV. A Fund may also be limited in its ability to
enforce its rights
and may incur greater costs in enforcing its rights in the event an
issuer becomes the subject of bankruptcy proceedings. In addition,
the Funds’
intention or ability to qualify as “regulated investment companies”
under the Code may limit the extent to which a Fund may exercise
its rights by
taking possession of such assets.
Certain securities held by a Fund may permit the issuer at its
option to “call,” or redeem, its securities. If an issuer were to
redeem securities held
by a Fund during a time of declining interest rates, the Fund may
not be able to reinvest the proceeds in securities providing the
same investment
return as the securities redeemed.
The prices for below investment grade debt securities may be
affected by legislative and regulatory developments. Below
investment grade debt
securities may also be subject to certain risks not typically
associated with “investment grade” securities, such as the
following: (i) reliable and
objective information about the value of below investment grade
debt securities may be difficult to obtain because the market for
such securities may
be thinner and less active than that for investment grade
obligations; (ii) adverse publicity and investor perceptions,
whether or not based on
fundamental analysis, may decrease the values and liquidity of
lower than investment grade obligations, and, in turn, adversely
affect their market; (iii)
companies that issue below investment grade debt securities may be
in the growth stage of their development, or may be financially
troubled or highly
leveraged, so they may not have more traditional methods of
financing available to them; (iv) when other institutional
investors dispose of their
holdings of below investment grade debt securities, the general
market and the prices for such securities could be adversely
affected; and (v) the
market for below investment grade debt securities could be impaired
if legislative proposals to limit their use in connection with
corporate
reorganizations or to limit their tax and other advantages are
enacted.
A-6
Borrowings
A Fund is required at all times to maintain its assets at a level
at least three times the amount of all of its borrowings (the “300%
asset coverage
test”). Borrowings for this purpose include obligations under any
futures contract on a debt obligation. The Securities and Exchange
Commission
(“SEC”) has taken the position that certain transactions, such as
entering into reverse repurchase agreements, engaging in dollar
roll transactions,
selling securities short (other than short sales
“against-the-box”), buying and selling certain derivatives (such as
futures contracts), and selling (or
writing) put and call options, and other trading practices that
have a leveraging effect on the capital structure of a fund or are
economically equivalent
to borrowing can be viewed as borrowing by the fund for purposes of
the 1940 Act. A borrowing transaction (including, without
limitation, a reverse
repurchase agreement transaction) will not be considered to
constitute the issuance of a “senior security” by a fund, and
therefore such transaction will
not be subject to the 300% asset coverage requirement otherwise
applicable to borrowings by a fund, if the fund (1) maintains an
offsetting financial
position; (2) segregates liquid assets equal (as determined on a
daily mark-to-market basis) in value to the fund’s potential
economic exposure under
the borrowing transaction; or (3) otherwise “covers” the
transaction in accordance with SEC guidance. Any borrowings that
come to exceed the 300%
asset coverage requirement will be reduced within three days (not
including Sundays and holidays) to the extent necessary to comply
with this
requirement.
Cash and Short-Term Debt Securities
Money Market Instruments Generally. The Funds may invest in money
market securities, including money market funds. Money market
securities are high-quality, short-term debt instruments that may
be issued by the U.S. Government, corporations, banks, or other
entities. They may
have fixed, variable, or floating interest rates. Some money market
securities in which the Funds may invest are described below.
Bank Obligations. The Funds may invest in bank obligations,
including certificates of deposit, time deposits, bankers’
acceptances, and other
short-term obligations of domestic banks, foreign subsidiaries of
domestic banks, foreign branches of domestic banks, and domestic
and foreign
branches of foreign banks, domestic savings and loan associations,
and other banking institutions.
Certificates of deposit (“CDs”) are negotiable certificates
evidencing the obligations of a bank to repay funds deposited with
it for a specified
period of time. Time deposits are non-negotiable deposits
maintained in a banking institution for a specified period of time
at a stated interest rate.
Time deposits which may be held by the Funds will not benefit from
insurance from the Bank Insurance Fund or the Savings Association
Insurance
Fund administered by the Federal Deposit Insurance Corporation.
Bankers’ acceptances are credit instruments evidencing the
obligation of a bank to
pay a draft drawn on it by a customer. These instruments reflect
the obligation both of the bank and the drawer to pay the face
amount of the
instrument upon maturity. The other short-term obligations may
include uninsured, direct obligations, bearing fixed, floating, or
variable interest rates.
The Funds may invest in certificates of deposit and bankers’
acceptances of U.S. banks and savings and loan associations, London
branches of
U.S. banks, and U.S. branches of foreign banks. Obligations of
foreign banks and of foreign branches of U.S. banks may be affected
by foreign
governmental action, including imposition of currency controls,
interest limitations, withholding or other taxes, seizure of
assets, or the declaration of
a moratorium or restriction on payments of principal or interest.
Foreign banks and foreign branches of U.S. banks may provide less
public
information than, and may not be subject to the same accounting,
auditing, and financial recordkeeping standards as, domestic
banks.
Cash, Short-Term Instruments, and Temporary Investments. The Funds
may hold a significant portion of their assets in cash or cash
equivalents
at the sole discretion of the Fund’s investment adviser or
subadviser. The Funds’ investment adviser or subadvisers will
determine the amount of the
Funds’ assets to be held in cash or cash equivalents at their sole
discretion, based on such factors as they may consider appropriate
under the
circumstances. The Funds may hold a portion of their assets in
cash, for example, in order to provide for expenses or anticipated
redemption payments
or for temporary defensive purposes. The Funds may also hold a
portion of their assets in cash as part of the Funds’ investment
programs or asset
allocation strategies, in amounts considered appropriate by the
Funds’ investment adviser or subadvisers. To the extent the Funds
hold assets in cash
and otherwise uninvested, its investment returns may be adversely
affected and the Funds may not achieve their respective investment
objectives. The
Funds may invest in high quality money market instruments. The
instruments in which the Funds may invest include, without
limitation: (i) short-term
obligations issued or guaranteed by the U.S. Government, its
agencies or instrumentalities (including government-sponsored
enterprises); (ii) CDs,
bankers’ acceptances, fixed time deposits, and other obligations of
domestic banks (including foreign branches); (iii) non-convertible
corporate debt
securities (e.g., bonds and debentures) with remaining maturities
at the date of purchase of not more than one year; (iv) repurchase
agreements; and (v)
short-term obligations of foreign banks (including U.S.
branches).
A-7
Commercial Paper and Short-Term Corporate Debt Instruments. The
Funds may invest in commercial paper (including variable amount
master
demand notes) consisting of short-term, unsecured promissory notes
issued by corporations to finance short-term credit needs.
Commercial paper is
usually sold on a discount basis and, other than asset-backed
commercial paper, usually has a maturity at the time of issuance
not exceeding nine
months. Variable amount master demand notes are demand obligations
that permit the investment of fluctuating amounts at varying market
rates of
interest pursuant to arrangements between the issuer and a
commercial bank acting as agent for the payee of such notes whereby
both parties have the
right to vary the amount of the outstanding indebtedness on the
notes. The investment adviser or subadvisers monitor on an ongoing
basis the ability of
an issuer of a demand instrument to pay principal and interest on
demand. The Funds also may invest in non-convertible corporate debt
securities (e.g.,
bonds and debentures) with not more than one year remaining to
maturity at the date of settlement.
Letters of Credit. Certain of the debt obligations (including
municipal securities, certificates of participation, commercial
paper, and other short-
term obligations) which the Funds may purchase may be backed by an
unconditional and irrevocable letter of credit of a bank, savings
and loan
association, or insurance company which assumes the obligation for
payment of principal and interest in the event of default by the
issuer.
Commodities
A Fund may invest directly or indirectly in commodities (such as
precious metals or natural gas). Commodity prices can be more
volatile than
prices of other types of investments and can be affected by a wide
range of factors, including changes in overall market movements,
speculative
investors, real or perceived inflationary trends, commodity index
volatility, changes in interest rates or currency exchange rates,
population growth and
changing demographics, nationalization, expropriation, or other
confiscation, changes in the costs of discovering, developing,
refining, transporting,
and storing commodities, the success of commodity exploration
projects, temporary or long-term price dislocations and
inefficiencies in commodity
markets generally or in the market for a particular commodity,
international or local regulatory, political, and economic
developments (for example,
regime changes and changes in economic activity levels), and
developments affecting a particular region, industry, or commodity,
such as drought,
floods, or other weather conditions, livestock disease, epidemics,
trade embargoes, energy conservation, competition from substitute
products,
transportation bottlenecks or shortages, fluctuations in supply and
demand, and tariffs. Exposure to commodities can cause the NAV of a
Fund’s shares
to decline or fluctuate in a rapid and unpredictable manner.
Commodity prices may be more or less volatile than securities of
companies engaged in
commodity-related businesses. Investments in commodity-related
companies are subject to the risk that the performance of such
companies may not
correlate with the broader equity market or with returns on
commodity investments to the extent expected by the investment
adviser or subadviser.
Such companies may be significantly affected by import controls,
worldwide competition, changes in consumer sentiment, and spending,
and can be
subject to liability for, among other things, environmental damage,
depletion of resources, and mandated expenditures for safety and
pollution control.
A liquid secondary market may not exist for certain commodity
investments, which may make it difficult for the Fund to sell them
at a desirable price
or at the price at which it is carrying them.
A-8
A Fund may also directly or indirectly use commodity-related
derivatives. The values of these derivatives may fluctuate more
than the relevant
underlying commodity or commodities or commodity index. A Fund’s
investments in commodities or commodity-related derivatives can be
limited by
the Fund’s intention to qualify as a regulated investment company
for federal income tax purposes, and can bear on the Fund’s ability
to qualify as
such.
Common and Preferred Stocks
Stocks represent shares of ownership in a company. Generally,
preferred stock has a specified dividend and ranks after bonds and
before common
stocks in its claim on income for dividend payments and on assets
should the company be liquidated. After other claims are satisfied,
common
stockholders participate in company profits on a pro-rata basis.
Profits may be paid out in dividends or reinvested in the company
to help it grow.
Increases and decreases in earnings are usually reflected in a
company’s stock price, so common stocks generally have the greatest
appreciation and
depreciation potential of all corporate securities. Like other
equity securities, preferred stock is subject to the risk that its
value may decrease based on
actual or perceived changes in the business or financial condition
of the issuer. In addition, changes in interest rates may adversely
affect the value of a
preferred stock that pays a fixed dividend.
Concentration Policy
For purposes of each Fund’s concentration limitation as disclosed
in this SAI, the Funds apply such policy to direct investments in
the securities
of issuers in a particular industry, as determined by a Fund’s
investment adviser or subadviser. A Fund’s investment adviser or
subadviser may analyze
the characteristics of a particular issuer and security and assign
an industry or sector classification consistent with those
characteristics in the event that
the third party classification provider used by the investment
adviser or subadviser does not assign a classification or the
investment adviser or
subadviser, in consultation with the Fund’s Chief Compliance
Officer, determines that another industry or sector classification
is more appropriate.
Convertible Securities
The Funds may invest in debt or preferred equity securities
convertible into, or exchangeable for, common stock at a stated
price or rate.
Traditionally, convertible securities have paid dividends or
interest at rates higher than common stocks but lower than
nonconvertible securities. They
generally participate in the appreciation or depreciation of the
underlying stock into which they are convertible, but to a lesser
degree. In recent years,
convertibles have been developed which combine higher or lower
current income with options and other features. Convertible
securities are subject to
the risks of debt and equity securities.
Cyber Security and Technology
With the increased use of technologies such as the Internet and the
dependence on computer systems to perform business and
operational
functions, investment companies (such as the Funds) and their
service providers (such as the Funds’ investment adviser,
subadvisers, custodian, and
transfer agent) may be prone to operational and information
security risks resulting from cyber-attacks and/or technological
malfunctions. In general,
cyber-attacks are deliberate, but unintentional events may have
similar effects. Cyber-attacks include, among others, stealing or
corrupting data
maintained online or digitally, preventing legitimate users from
accessing information or services on a website, releasing
confidential information
without authorization, and causing operational disruption.
Successful cyber-attacks against, or security breakdowns of, a
Fund, the investment adviser,
subadviser, custodian, transfer agent, or service provider may
adversely affect the Fund or its shareholders. For instance,
cyber-attacks may interfere
with the processing of shareholder transactions, affect a Fund’s
ability to calculate its NAV, cause the release of private
shareholder information or
confidential Fund information, impede trading, cause reputational
damage, and subject the Fund to regulatory fines, penalties or
financial losses,
reimbursement or other compensation costs, and additional
compliance costs. Cyber-attacks may render records of Fund assets
and transactions,
shareholder ownership of Fund shares, and other data integral to
the functioning of the Fund inaccessible or inaccurate or
incomplete. A Fund may
also incur substantial costs for cyber security risk management in
order to prevent cyber incidents in the future. A Fund and its
shareholders could be
negatively impacted as a result. There are inherent limitations in
business continuity plans and systems designed to minimize the risk
of cyberattacks
through the use of technology, processes, and controls, including
the possibility that certain risks have not been identified given
the evolving nature of
this threat. The Funds rely on third-party service providers for
many of their day-to-day operations, and will be subject to the
risk that the protections
and protocols implemented by those service providers will be
ineffective to protect the Funds from cyber-attack. The Funds’
investment adviser does
not control the cyber security plans and technology systems put in
place by third-party service providers, and such third-party
service providers may
have limited indemnification obligations to the Funds’ investment
adviser or the Funds, each of whom could be negatively impacted as
a result.
Similar types of cyber security risks also are present for issuers
of securities in which the Funds invest, which could result in
material adverse
consequences for such issuers, and may cause a Fund’s investment in
such securities to lose value.
A-9
Debtor-in-Possession Financings
The Funds may invest in debtor-in-possession financings (commonly
known as “DIP financings”) through participation interests in
direct loans,
purchase of assignments, and other means. DIP financings are
arranged when an entity seeks the protections of the bankruptcy
court under Chapter 11
of the U.S. Bankruptcy Code (“Chapter 11”). These financings allow
the entity to continue its business operations while reorganizing
under Chapter
11. Such financings constitute senior liens on an unencumbered
security (i.e., a security not subject to other creditors’ claims).
DIP financings are
generally subject to the same risks as investments in senior bank
loans and similar debt instruments, but involve a greater risk of
loss of principal and
interest. For example, there is a risk that the entity will not
emerge from Chapter 11 and be forced to liquidate its assets under
Chapter 7 of the U.S.
Bankruptcy Code, as well as a risk that the bankruptcy court will
not approve a proposed reorganization plan or will require
substantial and
unfavorable changes to an initial plan. In the event of
liquidation, a Fund’s only recourse will be against the property
securing the DIP financing.
Companies in bankruptcy may also be undergoing significant
financial and operational changes that may cause their financial
performance to have
elevated levels of volatility. DIP financings may involve
payment-in-kind interest or principal interest payments, and a Fund
may receive securities of
a reorganized issuer (e.g., common stock, preferred stock,
warrants) in return for its investment, which may include illiquid
investments and
investments that are difficult to value.
Derivatives
General. Derivatives are financial instruments whose values are
based on the values of one or more underlying indicators, such as a
security,
asset, currency, interest rate, or index. Derivative transactions
can create investment leverage and may be highly volatile. Losses
from derivatives can
be substantially greater than the derivatives’ original cost and
can sometimes be unlimited. A Fund may not be able to close out a
derivative
transaction at a favorable time or price.
A Fund’s use of derivative instruments involves risks different
from, and possibly greater than, the risks associated with
investing directly in
securities and other more traditional investments. Derivative
products can be highly specialized instruments that may require
investment techniques
and risk analyses different from those associated with stocks and
bonds. Derivatives are subject to a number of risks, such as
potential changes in
value in response to interest rate changes or other market
developments or as a result of the counterparty’s credit quality
and the risk that a derivative
transaction may not have the effect or benefit a Fund’s investment
adviser or subadviser anticipated. Derivatives also involve the
risk of mispricing or
improper valuation and the risk that changes in the value of a
derivative may not correlate perfectly with the underlying asset,
rate, or index. When a
Fund invests in a derivative instrument, it could lose more than
the principal amount invested. Also, suitable derivative
transactions may not be
available in all circumstances, and there can be no assurance that
a Fund will engage in these transactions to reduce exposure to
other risks when that
would be beneficial. Many derivative transactions are entered into
“over the counter” (not on an exchange or contract market); as a
result, the value of
such a derivative transaction will depend on the ability and the
willingness of the Fund’s counterparty to perform its obligations
under the transaction.
A Fund may be required to segregate certain of its assets on the
books of its custodian with respect to derivatives transactions
entered into by the Fund.
A liquid secondary market may not always exist for a Fund’s
derivative positions at any time. Use of derivatives may affect the
amount, timing, and
character of distributions to shareholders. Although the use of
derivatives is intended to enhance a Fund’s performance, it may
instead reduce returns
and increase volatility.
A-10
A Fund may be subject to the credit risk of its counterparty to
derivative transactions (including repurchase and reverse
repurchase agreements)
and to the counterparty’s ability or willingness to perform in
accordance with the terms of the transaction. A Fund may be
negatively impacted if a
counterparty becomes bankrupt or otherwise fails to perform its
obligations under such a transaction. A Fund may experience
significant delays in
obtaining any recovery in a bankruptcy or other reorganization
proceeding and a Fund may obtain only limited recovery or may
obtain no recovery in
such circumstances. In the event of a counterparty’s (or its
affiliate’s) insolvency, the possibility exists that a Fund’s
ability to exercise remedies, such
as the termination of transactions, netting of obligations, and
realization on collateral, could be stayed or eliminated under
special resolution regimes
adopted in the United States, the European Union, and various other
jurisdictions. Such regimes provide government authorities with
broad authority
to intervene when a financial institution is experiencing financial
difficulty. In particular, the regulatory authorities could reduce,
eliminate, or convert
to equity the liabilities to a Fund of a counterparty who is
subject to such proceedings in the European Union (sometimes
referred to as a “bail in”).
A Fund may enter into cleared derivatives transactions and/or
exchange-traded futures contracts. When a Fund enters into a
cleared derivative
transaction and/or an exchange-traded futures contract, it is
subject to the credit risk of the clearinghouse and the clearing
member through which it
holds its position. The clearing member or the clearinghouse could
also fail to perform its obligations, causing losses to the Fund.
Credit risk of market
participants with respect to derivatives that are centrally cleared
is concentrated in a few clearinghouses and clearing members. Under
current
Commodity Futures Trading Commission (“CFTC”) regulations, a
clearing member is required to maintain customers’ assets in
omnibus accounts for
all of its customers segregated from the clearing member’s
proprietary assets. If, for example, a clearing member fails to
segregate customer assets, is
unable to satisfy a substantial deficit in a customer account, or
in the event of fraud or misappropriation of customer assets by a
clearing member,
clearing member customers may be subject to risk of loss of their
funds in the event of that clearing member’s bankruptcy. A Fund
might not be fully
protected in the event of the bankruptcy of a Fund’s clearing
member because the Fund would be limited to recovering only a pro
rata share of the
funds held by the clearing member on behalf of customers. It is not
entirely clear how an insolvency proceeding of a clearinghouse, or
the clearing
member through which the Fund holds its positions at a
clearinghouse, would be conducted, what effect the insolvency
proceeding would have on any
recovery by a Fund, and what impact an insolvency of a
clearinghouse or clearing member would have on the financial system
more generally.
U.S. and non-U.S. legislative and governmental authorities, various
exchanges, and regulatory and self-regulatory authorities have
undertaken
reviews of derivatives trading in recent periods. Among the actions
that have been taken or proposed to be taken are new position
limits and reporting
requirements, new or more stringent daily price fluctuation limits
for futures and options transactions, new or increased margin and
reserve
requirements for various types of derivatives transactions, and
mandatory clearing, trading, and reporting requirements for many
derivatives.
Additional measures are under active consideration and as a result
there may be further actions that adversely affect the regulation
of instruments in
which the Funds invest. Such legislative and regulatory measures
may reduce the availability of some types of derivative
instruments, may increase
the cost of trading in or maintaining other instruments or
positions, and may cause uncertainty in the markets for a variety
of derivative instruments. It
is also possible that these or similar measures could potentially
limit or completely restrict the ability of a Fund to use these
instruments as a part of its
investment strategy. For example, the SEC recently finalized new
Rule 18f-4 under the 1940 Act providing for the regulation of
registered investment
companies’ use of derivatives and certain related instruments.
Compliance with Rule 18f-4 will not be required until approximately
the middle of
2022. The ultimate impact, if any, of the regulation remains
unclear, but the new rule, among other things, limits derivatives
exposure through one of
two value-at-risk tests and eliminates the asset segregation
framework for covering derivatives and certain financial
instruments arising from the
SEC’s Release 10666 and ensuing staff guidance. Limited derivatives
users (as determined by Rule 18f-4), however, are not subject to
the full
requirements under the rule. Legislative and regulatory measures
like this and others are evolving and still being implemented and
their effects on
derivatives market activities cannot be reliably predicted.
No Fund has the obligation to enter into derivatives transactions
at any time or under any circumstances. In addition, nothing in
this SAI is
intended to limit in any way any purpose for which a Fund may enter
into any type of derivatives transaction; a Fund may use
derivatives transactions
for hedging purposes or generally for purposes of enhancing its
investment return.
A-11
Foreign Currency Exchange Transactions
A Fund may enter into foreign currency exchange transactions for
hedging purposes in order to protect against uncertainty in the
level of future
foreign currency exchange rates, or for other, non-hedging
purposes—for example, a Fund may take a long or short position with
respect to a foreign
currency in which none of the Fund’s assets or liabilities are
denominated, or where the position is in excess of the amount of
any such assets or
liabilities, in order to take advantage of anticipated changes in
the relative values of those currencies. There can be no assurance
that appropriate
foreign currency transactions will be available for a Fund at any
time or that a Fund will enter into such transactions at any time
or under any
circumstances even if appropriate transactions are available to it.
A Fund may purchase or sell a foreign currency on a spot (i.e.,
cash) basis at the
prevailing spot rate. A Fund may also enter into contracts to
deliver in the future an amount of one currency in return for an
amount of another
currency (“forward contracts”) and may purchase and sell foreign
currency futures contracts. (Foreign currency futures contracts are
similar to
financial futures contracts, except that they typically contemplate
the delivery of foreign currencies; see “Financial Futures
Contracts,” below.) A Fund
may also purchase or sell options on foreign currencies or options
on foreign currency futures contracts.
A Fund may enter into foreign currency exchange transactions in
order to hedge against a change in the values of assets or
liabilities denominated
in one or more foreign currencies due to changes in currency
exchange rates.
A Fund may also enter into foreign currency transactions to adjust
generally the exposure of its portfolio to various foreign
currencies. For
example, a Fund with a large exposure to securities denominated in
euros might want to continue to hold those securities, but to trade
its exposure to
the euro to exposure to, say, the Japanese Yen. In that case, the
Fund might take a short position in the euro and a long position in
the Yen. A Fund may
also use foreign currency transactions to hedge the value of the
Fund’s portfolio against the Fund’s benchmark index.
The value of any currency, including U.S. dollars and foreign
currencies, may be affected by complex political and economic
factors applicable to
the issuing country. In addition, the exchange rates of foreign
currencies (and therefore the values of foreign currency options,
forward contracts, and
futures contracts) may be affected significantly, fixed, or
supported directly or indirectly by U.S. and foreign government
actions. Government
intervention may increase risks involved in purchasing or selling
foreign currency options, forward contracts, and futures contracts,
since exchange
rates may not be free to fluctuate in response to other market
forces. Foreign governmental restrictions or taxes could result in
adverse changes in the
cost of acquiring or disposing of foreign currencies.
Because foreign currency transactions occurring in the interbank
market involve substantially larger amounts than those that may be
involved in
the use of foreign currency options, investors may be disadvantaged
by having to deal in an odd lot market (generally consisting of
transactions of less
than $1 million) for the underlying foreign currencies at prices
that are less favorable than for round lots.
There is no systematic reporting of last-sale information for
foreign currencies and there is no regulatory requirement that
quotations available
through dealers or other market sources be firm or revised on a
timely basis. Available quotation information is generally
representative of very large
transactions in the interbank market and thus may not reflect
relatively smaller transactions (less than $1 million) where rates
may be less favorable.
The interbank market in foreign currencies is a global,
around-the-clock market.
Currency Forward and Futures Contracts. A foreign currency forward
contract involves an obligation to deliver in the future, which may
be any
fixed number of days from the date of the contract as agreed by the
parties, an amount of one currency in return for an amount of
another currency, at
an exchange rate set at the time of the contract. The contracts are
traded in the interbank market conducted directly between currency
traders (usually
large commercial banks) and their customers. A foreign currency
futures contract is a standardized contract for the future delivery
of a specified
amount of a foreign currency at a future date at an exchange rate
set at the time of the contract. Foreign currency futures contracts
traded in the United
States are designed by and traded on exchanges regulated by the
CFTC, such as the Chicago Mercantile Exchange. Foreign currency
futures contracts
will typically require a Fund to post both initial margin and
variation margin.
A-12
Foreign currency forward contracts differ from foreign currency
futures contracts in certain respects. For example, the maturity
date of a forward
contract may be any fixed number of days from the date of the
contract agreed upon by the parties, rather than a predetermined
date in a given month.
Forward contracts may be in any amounts agreed upon by the parties
rather than predetermined amounts. Also, forward foreign exchange
contracts are
traded directly between counterparties, exposing a Fund to credit
risk with respect to its counterparty, whereas foreign currency
futures contracts are
traded on regulated exchanges. Because foreign currency forward
contracts are private transactions between a Fund and its
counterparty, any benefit of
such contracts to the Fund will depend upon the willingness and
ability of the counterparty to perform its obligations. In the case
of a futures contract,
a Fund is subject to the credit risk of the clearinghouse and the
clearing member through which it holds its position as well as the
risk that the clearing
member or the clearinghouse could also fail to perform its
obligations.
At the maturity of a forward or futures contract, a Fund will make
delivery of the currency or currencies specified in the contract in
return for the
other currency or currencies specified in the contract (or, if the
forward contract is a non-deliverable forward contract, settle the
contract on a net basis
with the counterparty) or, at or prior to maturity, enter into a
closing transaction involving the purchase or sale of an offsetting
contract. Closing
transactions with respect to forward contracts are usually effected
with the currency trader who is a party to the original forward
contract. Closing
transactions with respect to futures contracts are effected on a
commodities exchange and a clearinghouse associated with the
exchange assumes
responsibility for closing out such contracts.
Positions in foreign currency futures contracts and related options
may be closed out only on an exchange or board of trade which
provides a
secondary market in such contracts or options. Although a Fund will
normally purchase or sell foreign currency futures contracts and
related options
only on exchanges or boards of trade where there appears to be an
active secondary market, there is no assurance that a secondary
market on an
exchange or board of trade will exist for any particular contract
or option or at any particular time. In such event, it may not be
possible to close a
futures or related option position and, in the event of adverse
price movements, a Fund would continue to be required to make daily
cash payments of
variation margin on its futures positions. A Fund’s ability to
close out a foreign currency forward contract will depend on the
willingness of its
counterparty to engage in an offsetting transaction.
Foreign Currency Options. Options on foreign currencies operate
similarly to options on securities, and are traded primarily in the
over-the-
counter (“OTC”) market, although certain options on foreign
currencies may be listed on several exchanges. Although such
options will be purchased
or written only when an investment adviser or subadviser believes
that a liquid secondary market exists for such options, there can
be no assurance
that a liquid secondary market will exist for a particular option
at any specific time. Options on foreign currencies are affected by
all of those factors
which influence exchange rates and investments generally.
The value of a foreign currency option is dependent upon the value
of the foreign currency and the U.S. dollar, and may have no
relationship to
the investment merits of a foreign security.
Foreign Currency Conversion. Although foreign exchange dealers do
not charge a fee for currency conversion, they do realize a profit
based on
the difference (the “spread”) between prices at which they buy and
sell various currencies. Thus, a dealer may offer to sell a foreign
currency to a Fund
at one rate, while offering a lesser rate of exchange should a Fund
desire to resell that currency to the dealer.
Foreign Currency Swap Agreements. A Fund may enter into currency
swaps to protect against adverse changes in exchange rates between
the
U.S. dollar and other currencies or as a means of making indirect
investments in foreign currencies. Currency swaps involve the
individually
negotiated exchange by a Fund with another party of a series of
payments in specified currencies in amounts determined pursuant to
the terms of the
swap agreement. (See “Swap Agreements and Options on Swap
Agreements,” below.)
Foreign currency derivatives transactions may be highly volatile
and may give rise to investment leverage.
A-13
Financial Futures Contracts
A Fund may enter into futures contracts, including interest rate
futures contracts, securities index futures contracts, and futures
contracts on fixed
income securities (collectively referred to as “financial futures
contracts”).
A Fund may use interest rate futures contracts to adjust the
interest rate sensitivity (duration) of its portfolio or the credit
exposure of the
portfolio. Interest rate futures contracts obligate the long or
short holder to take or make delivery of a specified quantity of a
financial instrument, such
as a specific fixed income security, during a specified future
period at a specified price.
A Fund may use index futures contracts to hedge against broad
market risks to its portfolio or to gain broad market exposure when
it holds
uninvested cash or as an inexpensive substitute for cash
investments directly in securities or other assets, including
commodities and precious metals.
Securities index futures contracts are contracts to buy or sell
units of a securities index at a specified future date at a price
agreed upon when the
contract is made and are settled in cash.
Positions in financial futures contracts may be closed out only on
an exchange or board of trade which provides a secondary market for
such
futures.
There are special risks associated with entering into financial
futures contracts. The skills needed to use financial futures
contracts effectively are
different from those needed to select a Fund’s investments. There
may be an imperfect correlation between the price movements of
financial futures
contracts and the price movements of the securities in which a Fund
invests. There is also a risk that a Fund will be unable to close a
position in a
financial futures contract when desired because there is no liquid
secondary market for it.
The risk of loss in trading financial futures contracts can be
substantial due to the low margin deposits required and the
extremely high degree of
leverage involved in futures pricing. Relatively small price
movements in a financial futures contract could have an immediate
and substantial impact,
which may be favorable or unfavorable to a Fund. It is possible for
a price-related loss to exceed the amount of a Fund’s margin
deposit. An investor
could also suffer losses if it is unable to close out a futures
contract because of an illiquid secondary market. Futures are
subject to the creditworthiness
of the clearing members (i.e., futures commission merchants) and
clearing organizations involved in the transactions.
Although some financial futures contracts by their terms call for
the actual delivery or acquisition of securities at expiration, in
most cases the
contractual commitment is closed out before expiration. The
offsetting of a contractual obligation is accomplished by
purchasing (or selling as the case
may be) on a futures exchange an identical financial futures
contract calling for delivery in the same month. Such a transaction
offsets the obligation to
make or take delivery. A Fund will incur brokerage fees when it
purchases or sells financial futures contracts, and will be
required to maintain margin
deposits. If a liquid market does not exist when a Fund wishes to
close out a financial futures contract, it will not be able to do
so and will continue to
be required to make daily cash payments of variation margin in the
event of adverse price movements.
The investment adviser has claimed with respect to each Fund an
exclusion from the definition of the term “commodity pool operator”
under the
Commodity Exchange Act (the “CEA”) and, therefore, is not subject
to registration or regulation as a pool operator under the CEA. For
the investment
adviser to be eligible to claim such an exclusion, a Fund may only
use futures contracts, options on such futures, commodity options
and certain swaps
solely for “bona fide hedging purposes,” or must limit its use of
such instruments for non-bona fide hedging purposes to certain de
minimis amounts.
It is possible that that exclusion may in the future cease to be
available with respect to one or more Funds. In any case where the
exclusion is
unavailable with respect to a Fund, additional CFTC-mandated
disclosure, reporting, and recordkeeping obligations would apply
with respect to that
Fund. Compliance with the CFTC’s regulatory requirements could
increase Fund expenses and potentially adversely affect a Fund’s
total return.
Margin Payments. When a Fund purchases or sells a financial futures
contract, it is required to deposit with the clearing member an
amount of
cash, U.S. Treasury bills, or other permissible collateral equal to
a small percentage of the amount of the financial futures contract.
This amount is
known as “initial margin.” The nature of initial margin is
different from that of margin in security transactions in that it
does not involve borrowing
money to finance transactions. Rather, initial margin is similar to
a performance bond or good faith deposit that is returned to a Fund
upon termination
of the contract, assuming the Fund satisfies its contractual
obligations.
A-14
Subsequent payments to and from the clearing member occur on a
daily basis in a process known as “marking to market.” These
payments are
called “variation margin” and are made as the value of the
underlying financial futures contract fluctuates. For example, when
a Fund sells an index
futures contract and the price of the underlying index rises above
the delivery price, the Fund’s position declines in value. The Fund
then pays the
clearing member a variation margin payment equal to the difference
between the delivery price of the index futures contract and the
value of the index
underlying the index futures contract. Conversely, if the price of
the underlying index falls below the delivery price of the
contract, the Fund’s futures
position increases in value. The clearing member then must make a
variation margin payment equal to the difference between the
delivery price of the
index futures contract and the value of the index underlying the
index futures contract.
When a Fund terminates a position in a financial futures contract,
a final determination of variation margin is made, additional cash
is paid by or
to the Fund, and the Fund realizes a loss or a gain. Such closing
transactions involve additional commission costs.
Options on Financial Futures Contracts. A Fund may purchase and
write call and put options on financial futures contracts. An
option on a
financial futures contract gives the purchaser the right, in return
for the premium paid, to assume a position in a financial futures
contract (a long
position if the option is a call and a short position if the option
is a put) at a specified exercise price at any time during the
period of the option. Upon
exercise of the option, the holder would assume the underlying
futures position and would receive a variation margin payment of
cash or securities
approximating the increase in the value of the holder’s option
position. If an option is exercised on the last trading day prior
to the expiration date of
the option, the settlement will be made entirely in cash.
Purchasers of options who fail to exercise their options prior to
the exercise date suffer a loss
of the premium paid.
Options on Swaps. Options on swaps (“swaptions”) are similar to
options on securities except that they are traded over-the-counter
(i.e., not on an
exchange) and the premium paid or received is to buy or grant the
right to enter into a previously agreed upon swap transaction, such
as an interest rate
or credit default contract. Forward premium swaption contracts
include premiums that have extended settlement dates. The delayed
settlement of the
premiums is factored into the daily valuation of the swaption
contracts. In the case of interest rate cap and floor contracts, in
return for a premium,
ongoing payments between two parties are based on interest rates
exceeding a specified rate, in the case of a cap contract, or
falling below a specified
rate, in the case of a floor contract.
Special Risks of Transactions in Financial Futures Contracts and
Related Options. Financial futures contracts entail risks. The
risks associated
with purchasing and writing put and call options on financial
futures contracts can be influenced by the market for financial
futures contracts. An
increase in the market value of a financial futures contract on
which the Fund has written an option may cause the option to be
exercised. In this
situation, the benefit to a Fund would be limited to the value of
the exercise price of the option and the Fund may realize a loss on
the option greater
than the premium the Fund initially received for writing the
option. In addition, a Fund’s ability to close out an option it has
written by entering into an
offsetting transaction depends upon the market’s demand for such
financial futures contracts. If a purchased option expires
unexercised, a Fund would
realize a loss in the amount of the premium paid for the
option.
If an investment adviser’s or subadviser’s judgment about the
general direction of interest rates or markets is wrong, the
overall performance may
be poorer than if no financial futures contracts had been entered
into.
Liquidity Risks. Positions in financial futures contracts may be
closed out only on the exchange on which such contract is listed.
Although the
Funds intend to purchase or sell financial futures contracts for
which there appears to be an active market, there is no assurance
that a liquid market
will exist for any particular contract or at any particular time.
If there is not a liquid market at a particular time, it may not be
possible to close a
position in a financial futures contract at such time and, in the
event of adverse price movements, a Fund would continue to be
required to make daily
cash payments of variation margin.
A-15
The ability to establish and close out positions in options on
financial futures contracts will be subject to the development and
maintenance of a
liquid market. It is not certain that such a market will develop.
Although a Fund generally will purchase only those options for
which there appears to
be an active market, there is no assurance that a liquid market on
an exchange will exist for any particular option or at any
particular time. In the event
no such market exists for particular options, it might not be
possible to effect closing transactions in such options, with the
result that a Fund would
have to exercise the options in order to realize any profit.
Hedging Risks. There are several risks in connection with the use
by a Fund of financial futures contracts and related options as a
hedging device.
One risk arises because of the imperfect correlation between
movements in the prices of the financial futures contracts and
options and movements in
the underlying securities or index or movements in the prices of a
Fund’s securities which are the subject of a hedge.
Successful use of financial futures contracts and options by a Fund
for hedging purposes is also subject to an investment adviser’s or
subadviser’s
ability to predict correctly movements in the direction of the
market. It is possible that, where a Fund has purchased puts on
financial futures contracts
to hedge its portfolio against a decline in the market, the
securities or index on which the puts are purchased may increase in
value and the value of
securities held in the portfolio may decline. If this occurred, the
Fund would lose money on the puts and also experience a decline in
the value of its
portfolio securities. In addition, the prices of financial futures
contracts, for a number of reasons, may not correlate perfectly
with movements in the
underlying securities or index due to certain market distortions.
First, all participants in the futures market are subject to margin
deposit requirements.
Such requirements may cause investors to close financial futures
contracts through offsetting transactions which could distort the
normal relationship
between the underlying security or index and futures markets.
Second, the margin requirements in the futures markets are less
onerous than margin
requirements in the securities markets in general, and as a result
the futures markets may attract more speculators than the
securities markets do.
Increased participation by speculators in the futures markets may
also cause temporary price distortions. Due to the possibility of
price distortion, even
a correct forecast of general market trends by an investment
adviser or subadviser still may not result in a successful hedging
transaction over a very
short time period.
Other Risks. A Fund will incur brokerage fees in connection with
its transactions in financial futures contracts and related
options. In addition,
while financial futures contracts and options on financial futures
contracts will be purchased and sold to reduce certain risks, those
transactions
themselves entail certain other risks. Thus, while a Fund may
benefit from the use of financial futures contracts and related
options, unanticipated
changes in interest rates or stock price movements may result in a
poorer overall performance for the Fund than if it had not entered
into any financial
futures contracts or options transactions. Moreover, in the event
of an imperfect correlation between the position in the financial
futures contract and
the portfolio position that is intended to be protected, the
desired protection may not be obtained and the Fund may be exposed
to risk of loss.
Swap Agreements and Options on Swap Agreements
A Fund may engage in swap transactions, including interest rate
swap agreements, credit default swaps, and total return
swaps.
Swap agreements are two party contracts entered into primarily by
institutional investors for periods ranging from a few weeks to
more than one
year. In a standard “swap” transaction, two parties agree to
exchange the returns (or differentials in rates of return) earned
or realized on particular
predetermined investments or instruments or rates, which may be
adjusted for an interest factor. The gross returns to be exchanged
or “swapped”
between the parties are generally calculated with respect to a
“notional amount” (i.e., the return on or increase in value of a
particular dollar amount
invested at a particular interest rate or in a “basket” of
securities representing a particular index). When a Fund enters
into an interest rate swap, it
typically agrees to make payments to its counterparty based on a
specified long- or short-term interest rate, and will receive
payments from its
counterparty based on another interest rate. Other forms of swap
agreements include, among others, interest rate caps, under which,
in return for a
specified payment stream, one party agrees to make payments to the
other to the extent that interest rates exceed a specified rate, or
“cap”; interest rate
floors, under which, in return for a specified payment stream, one
party agrees to make payments to the other to the extent that
interest rates fall below
a specified rate, or “floor”; interest rate collars, under which a
party sells a cap and purchases a floor or vice versa in an attempt
to protect itself against
interest rate movements exceeding given minimum or maximum levels;
and curve cap swaps, under which a party might buy or sell
protection against
an increase in long-term interest rates relative to shorter-term
rates. A Fund may enter into an interest rate swap in order, for
example, to hedge against
the effect of interest rate changes on the value of specific
securities in its portfolio, or to adjust the interest rate
sensitivity (duration) or the credit
exposure of its portfolio overall, or otherwise as a substitute for
a direct investment in debt securities.
A-16
A Fund may enter into total return swaps. In a total return swap,
one party typically agrees to pay to the other a short-term
interest rate in return
for a payment at one or more times in the future based on the
increase in the value of an underlying security or other asset, or
index of securities or
assets; if the underlying security, asset, or index declines in
value, the party that pays the short-term interest rate must also
pay to its counterparty a
payment based on the amount of the decline. A Fund may take either
side of such a swap, and so may take a long or short position in
the underlying
security, asset, or index. A Fund may enter into a total return
swap to hedge against an exposure in its portfolio (including to
adjust the duration or
credit quality of a Fund’s bond portfolio) or generally to put cash
to work efficiently in the markets in anticipation of, or as a
replacement for, cash
investments. A Fund may also enter into a total return swap to gain
exposure to securities or markets in which it might not be able to
invest directly (in
so-called market access transactions). A Fund may also enter into
contracts for difference, which are similar to total return
swaps.
A Fund also may enter into credit default swap transactions. In a
credit default swap, one party provides what is in effect insurance
against a
default or other adverse credit event affecting an issuer of debt
securities (typically referred to as a “reference entity”). In
general, the protection
“buyer” in a credit default swap is obligated to pay the protection
“seller” an upfront amount or a periodic stream of payments over
the term of the
swap. If a “credit event” occurs, the buyer has the right to
deliver to the seller bonds or other obligations of the reference
entity (with a value up to the
full notional value of the swap), and to receive a payment equal to
the par value of the bonds or other obligations. Credit events that
would trigger a
request that the seller make payment are specific to each credit
default swap agreement, but generally include bankruptcy, failure
to pay, restructuring,
obligation acceleration, obligation default, or
repudiation/moratorium. A Fund may be either the buyer or seller in
a credit default swap transaction.
When a Fund buys protection, it may or may not own securities of
the reference entity. If it does own securities of the reference
entity, the swap serves
as a hedge against a decline in the value of the securities due to
the occurrence of a credit event involving the issuer of the
securities. If the Fund does
not own securities of the reference entity, the credit default swap
may be seen to create a short position in